My neighbor cashed out $80,000 in equity last year. His kitchen looks amazing. Granite countertops. Custom cabinets. A six-burner range that would make a chef weep. His balance sheet? Less amazing. He owes $80,000 more on his house than he did before the renovation. And his monthly payment went up $340.
I'm not against home improvements. I'm against using your house as an ATM. Because that's what cash-out refinancing is. You're borrowing against your home equity to pay for things that might not add value. A kitchen renovation adds value. A vacation to Bali does not. But the bank doesn't care what you use the money for. They care that you pay it back. With interest. For thirty years.
Here's the math my neighbor didn't do. He cashed out $80,000 at 6.8% over 30 years. His new loan balance: $420,000. Monthly payment increase: $340. Total interest on that $80,000 over 30 years: $106,000. He's paying $106,000 in interest for a kitchen that might add $50,000 in value. He's underwater on his own renovation.
And here's the part that keeps me up at night: what if home values drop? In 2008, people who cashed out equity found themselves owing more than their houses were worth. My neighbor's house is worth $480,000. He owes $420,000. If values drop 15%, he's underwater. He can't sell without bringing cash to closing. He's stuck. In a house with a very nice kitchen that he can't afford to leave.
I'm not saying never do a cash-out refinance. If you use the money for something that generates return β like paying off 24% credit card debt with 6.8% mortgage debt β the math can work. But you have to actually pay off the credit cards. Not charge them back up. I've seen that movie. It doesn't end well.
There are better options. A HELOC has lower closing costs and you only pay interest on what you use. A personal loan has a fixed term, so you're not extending your mortgage by decades. Saving up and paying cash is boring but bulletproof. My neighbor's kitchen is beautiful. But I'll take financial security over granite countertops every single time.
β Jennifer Walsh
